RBC’s Lowered Moody’s Rating: What Does It Mean?

Royal Bank of Canada was among 15 global banks that saw their credit ratings slashed by Moody’s Investor Service yesterday. The cut, which targeted banks with high risk funding models and rewarded so called “safe haven banks” lowered RBC from Aa1 to Aa3 – the only bank in the group to fall two notches.

What Is The Impact of a Credit Rating?

Moody’s ranks banks according to a standardized rating system, using various factors to determine how much investors are poised to lose should the bank default. Financial institutions with “significant exposure” to volatile market activities – namely revenue generated by debt fees paid by clients, trading, equity advisory and short term financing – are considered to be on the riskier end of the scale. In plain English: the highest regarded banks are those that make the majority of their profits from good, old fashioned bank deposits from their clients.

What Does This Rating Mean for RBC?

The Moody system uses 3 main grades (with Aaa as the highest and C as the lowest), and further breaks ratings down with tiers specifying a bank’s level of Prime. RBC’s new rating of Aa3 still pegs the bank as Prime 1 – among the top echelon of the scale. This means the bank is still considered to be of the highest quality and among the lowest credit risk, and possesses the ability to pay off short term debt.

While RBC’s new grade makes it the lowest-ranked Canadian bank, it is among the highest ranked of the group of 15 that received cuts.

What does a lowered ranking really mean? For one, it can make it more challenging for a bank involved in high-risk activities to receive funding. Second, the bank may be required to provide more collateral when working with trade partners.

What Does This Mean for RBC Clients?

These changes might seem alarming – but there’s no need to panic. A statement released by Moody’s clarified that the rating slash was meant to suggest the bank scale down its business in capital markets.

“RBC is very highly rated and upward pressure on the rating is not currently anticipated, however management action signaling a change in direction and scaling-down of the commitment to the capital markets business would further stabilize the standalone credit assessment,” the ratings agency said, further noting that RBC has the lowest earnings volatility amongst their global investment banking peers.

RBC spokesperson Katherine Gay also stated that the bank expects “minimal” impact on its business and no impact on its clients whatsoever.

“Our funding spreads have been among lowest in relation to Canadian and global banks,” she stated.